A director may wish to either lend or borrow money from their company. This is known as a director’s loan and is accounted for in a Director’s Loan Account.
There are numerous risks involved whenever a director becomes involved with the loaning of money between the company and themselves, or another stakeholder.
The DLA does not include a salary, any dividends paid, or any expenses claimed by the director.
How it works
Essentially, a DLA monitors the borrowing between the director and the company.
When the director has taken out more than they have put into the company, the account is overdrawn.
Conversely, the company is in credit when it has borrowed more from the director than it has loaned out.
Interest and taxes
The interest rate charged on a director’s loan is up to the company. However, if the director is allowed to borrow at an interest rate lower than the official rate of the company, HMRC may see this as a taxable benefit – especially if the amount exceeds £10,000.
If your DLA is more than £10,000 it is automatically considered a benefit in kind (or a P11D Benefit), and you will have to pay income tax. In this case, the company will have to pay National Insurance, as your employer.
If, on the other hand, the loan is less than £10,000 you will be paying tax depending on when you repay the loan.
If you pay back the loan within the same accounting year in which you took it out – and it is less than £10,000 – you won’t need to pay Corporation Tax or include it in the company tax return.
There are multiple legal issues surrounding director’s loans that directors need to be aware of.
The company must maintain a DLA that shows a record of any money borrowed or loaned to the business. This is a legal requirement.
This includes all personal expenses paid off by the company as well as any withdrawals of cash from the company books.
It also includes expenses that the company has accrued which the director may choose to pay off. This counts as a loan from the director to the company.
If a director owes the company money it must be paid off regardless of insolvency or other financial factors. In such a case, it is possible that the liquidators or buyers of the company take legal action against the previous director.
After repaying one loan, a director must wait 30 days before taking out another.
It is possible for directors to take an “accidental dividend”, i.e., when a director inadvertently takes a payment from a loss rather than a profit. This may be declared as a loan and must be repaid within nine months.
To loan or not to loan?
A director’s loan can be a risky move that has the capability to destabilise a business in the eyes of its clients and its shareholders. As such, it should be a calculated endeavour – only to be used where necessary.
In addition, there are added tax and legality issues that surround the loaning of money. HMRC is generally suspicious of director’s loans as a non-taxable entity and, as such, you should maintain stringent and accurate books of DLAs.
For further guidance on Director’s Loan Accounts for your business, get in touch today!